Month: January 2009
Kevin Drum reports:
They didn't act all that quickly. The real
estate crash and the resulting credit losses began in late 1990,
solvency problems started to become acute in late 1991, and a variety
of treasury guarantees and capital injections were tried for another
year after that. (Sound familiar?) It wasn't until late 1992 that the
Swedish government finally took serious, systemic action.
They didn't nationalize the banking system.
Only one bank, Gota, was taken over, and that happened only after it
had collapsed. And aside from Gota, only one bank received a
substantial amount of capital injection: the state bank, Nordbanken,
which had much bigger problems than most of the private banks.
Generally speaking, they didn't fire existing bank management.
So what did the Swedes do? The main thing was
simple: in late 1992 the Swedish government guaranteed all bank
obligations throughout the system. They did this immediately for Gota
after its collapse, and two weeks later for everyone else.
What else? Not too much, actually. An agency was formed to dig into
the portfolios of nearly every major bank, and this resulted in a
capital requirement guarantee for one bank that was never used. In
addition, the shareholders of Gota and Nordbanken were mostly wiped out.
Keep that all in mind the next time it is recommended that we mimic the Swedish model.
In this journal’s same issue, Professors Edward McPhail and Andrew Farrant of Dickinson College have published letters between Hayek and me, along with their comments. I desist from providing any peer-reviewer comments of my own.
But, since I happen to be still alive at so late a date, I jot down here certain ad hominem nuances that only I could be privy to.
Hayekian biography confirms a few commonplaces. His was a highly original mind. That meant he had to work out everything for himself rather than learning stuff from teachers. Also, his was a slightly depressive personality. Popularity, unpopularity and virtual anonymity added to this. Once he told me (and I quote from memory) that (in his seventies) he feared he had become stale and uncreative. But later his originality did come back. In hindsight he learned that his two periods of letdown in fact turned out to have coincided with two incidents of heart infarction. In paraphrase: Right there is the brain–mind connection that had preoccupied Hayek when writing his psychology treatise The Sensory Order (Hayek, 1952).
Add to the above that as I myself aged beyond seventy and eighty and ninety, it came to my notice that one must learn to appreciate that elderly friends do need to be handled gently. Here is a germane example. After Harry Johnson’s stroke in Venice he still produced many worthy research articles. But he became easily irritated. He argued with various long-time friends. When the publisher who had carried his stuff for decades was three weeks late in sending a book out for review, he broke off relations with that company. Often I heard myself saying to good mutual friends of Harry and me: “That’s not our Harry arguing. It’s his arteries. Let’s just go with the flow and remember Johnson’s fertility and admirable versatility.”
So it was when I began to receive complaints from my long-time acquaintance Friedrich Hayek. Why at so late a date should I belabor the persisting differences between us on ideological issues?
No good deeds go unpunished! Never then, or before, or later did I have reason to think or to say: Yes, I have misunderstood you. Yes, I have incorrectly quoted from you. Mea culpa.
Exactly what I have written above evaluating The Road to Serfdom is precisely what I believed about it in the 1940s and continued to believe about it up to the present 2007.
Why agitate ourselveswhenwe are each entitled to harbor different analyses? One learns that often it is better to avoid an argument than to win one. Amen.
In this footnote on ad hominem matters, some few additional remarks may be useful. Most of my gifted mentors, born in the nineteenth century, lacked today’s “political (and ethnic) correctness.” There were of course some honorable exceptions among both my Yankee and European teachers. Reder (2000) has provided a useful exploration of such unpleasantries. Central to his expositions were appraisals of the triad John Maynard Keynes, Joseph A. Schumpeter and Friedrich Hayek on the subject of anti-semitism.
Unexpectedly, I was forced in the end to conclude that Keynes’s lifetime profile was the worst of the three. In the record of his letters to wife and other Bloomsbury buddies, Keynes apparently remained in viewpoint much the same as in his Eton essay on that subject as a callow seventeen-year-old.
Hayek, I came to realize, seemed to be the one of the three who at least tried to grow beyond his early conditioning. The full record suggests that he did not succeed fully in cleansing those Augean Stables. Still, a B grade for effort does trump a C-grade.
Keynes’s visceral social repugnance would interest future historians less if it never contaminated his intellectual judgments. However early on, like Bertrand Russell, Keynes did recognize barbaric evils in Lenin’s utopia. Strange though that instead of discovering the key role of Georgian Josef Stalin, it was the beastliness of Leon (Lev) Trotsky that Keynes’s pen picks up on.
Here is one source:
Here is another:
One Calculated Risk commentator states:
when does the audience get to vote?
Addendum: Do note that is the gross flow of cash from the government, not the net financial cost or the net social cost.
Is there a precedent for this kind of plan working? We have antitrust law but antitrust law doesn't actually prevent big firms from becoming big; we've had General Motors, Microsoft, Google, and others, all very large relative to their sectors.
You could imagine an absolute cap on the size of bank assets, so that above the size limit would-be loans and deposits are sent to a rival institution elsewhere by mandate. One implication is that banks won't have to treat their customers very well, since in a growing economy (we'll get one again, sooner or later) a lot of banks will be at the cap and will be turning away extra business. If different banks were perfect substitutes for each other, you wouldn't be seeing large banks in the first place.
A second question is whether ten little banks are safer than one larger, 10x bank. For sure they are if the problem is one bonehead manager at the bigger bank, but what if it's systemic asset price risk? The smaller banks could well be less safe. In a financial crisis, would you rather be a larger country or a smaller country?
I believe the plan would require very tight restrictions on off-balance sheet activity. Something like this may be coming anyway, and its rationale is understandable, but it is easier said than done. We would be requiring regulators to estimate the net "size" (it's debatable whether that word even applies; what is the "size" of a naked put?) of a bank financial position when banks themselves haven't been very good at doing that. A simple approach would be to ban all bank trading in derivatives but I believe that would increase bank risk more than decrease it, at least at this point.
By the way the 1927 McFadden Act banned interstate branch banking, in part to keep banks small, and economic historians usually consider that policy to have been a disaster which contributed to the severity of the Great Depression.
Is there a way out?
Buiter's argument — which applies just as much to the US as it does to the UK – is that the only way to get banks lending again is to nationalize them. Otherwise, they'll simply hoard liquidity in a desperate attempt to avoid being nationalized.
That's Felix Salmon.
The market at Intrade is predicting a probability of a U.S. Depression (10% or greater decline in GDP) in 2009 to be 56%. I am shocked. The probability is up significantly over the past two weeks. Why?
Addendum: MR Readers are fast! Within two minutes Marc points us to this post from Donald Luskin who says that it is a contract error. Here is the key clause from the contract:
as a cumulative decline in GDP of more than 10.0% over four consecutive
quarters [that sounds ok, AT]. This is calculated [here is the error] by adding together the published
(annualized) GDP figures (as detailed below). If these annualised
figures add up to more than -10.0% over four consecutive quarters then
the contract will expire at 100.
As Luskin notes
change-figures that are already each annualized, you will get a far
larger cumulative result than the actual change over a four-quarter
period. Suppose there are four successive quarters each showing an
annualized 2.5% decline in GPD. Intrade will add those together and get
10%. But over the year, the annual decline in GDP will acually be 2.5%.
Thanks readers, I was about to open an Intrade contract to bet heavily against!
Hat tip to Tim Groseclose.
Surely you've all been wondering, here's one answer I ran across (more at the link):
All airplanes will eventually sink if it is in water, even pressurized
planes. (more on that later) But there are several areas in the
airplane that have pockets of air that help keep the plane afloat. For
example, in the area between the outside skin of the fuselage and the
interrior there is a space that is usually insulated and has air that
needs to be displaced by the water. In most airplanes built today, the
wing is the fuel tank, and since water is heavier than fuel the fuel in
the wings help offset some of the weight of the plane…not a lot but
There is also air in the cargo hold of larger planes that will help
maintain buoyancy until the air is replaced by water. Anyone who thinks
an airplane is water tight and will float because it is pressurized is
nuts! The airplane is pressurized only while the engines are running
and the air being pumped into the aircraft to pressurize it is almost
escaping the aircraft just as fast as it is being pumped in. There are
control valves in the forward and rear bulkhead that regulate the
pressure inside the plane but all pressure is lost if the engines quit
running. At the altitude that the A-320 that crashed in the Hudson
river was at when it lost it's engines, it probably didn't have much
pressurization anyway since it was only a few thousand feet above sea
It is a common shibboleth that saved funds mean a decline in aggregate demand but this doesn't have to be true. Savings often fund investment, which boosts aggregate demand and creates jobs.
Admittedly, savings don't fund investment when the banking system is malfunctioning. Or it may take so long to translate savings into investment that incomes are falling in the meantime and S and I follow them on the way down (Keynes's scenario). Still, you shouldn't assume that savings translate into a collapse of aggregate demand.
Michael Mandel adds:
I believe that Obama’s $300 billion tax cut is essential to
‘recapitalize’ the American consumer, just like the banks are being
With that as background, consider the tax cuts in Obama's stimulus plan. If the money is spent, you get a boost to aggregate demand. That was the goal. If the money is not spent, it is a wash. The government borrows for people (at a low rate) and people save it. Since savings has gone up, the borrowing is sustainable and it doesn't even have to crowd out additional government spending, if that is what you want.
Furthermore these people would have done some borrowing anyway, so their ability to implicitly borrow at a lower interest rate creates a small, positive wealth effect. The savings also means you have supplied those people with some form of implicit insurance, and at very low risk of moral hazard.
I wouldn't expect a whole lot of recovery from these scenarios, but there's nothing problematic about having some tax cuts in the stimulus package. If you're looking for another opinion, here is Joseph Stiglitz.
Chris Mooney reports:
Only 18 percent of us know a scientist personally, according to a 2005 survey (subscription required), and when asked in 2007 to name scientific "role models," the results were dismal.
Forty-four percent of Americans couldn't come up with a name at all,
and among those few who did, their top answers were either not
scientists or not alive: Bill Gates, Al Gore, Albert Einstein.
"What we have done is kicked this can down the road. We are now at the end of the road and are not in a position to kick it any further," he said. "We have to signal seriousness in this by making sure some of the hard decisions are made under my watch, not someone else's."
And on unions:
The president-elect also gave his support for legislation that would
make it easier for workers to unionize, but he said there may be other
ways to achieve the same goal without angering businesses. And while
many Democrats on Capitol Hill are eager to see a quick vote on that bill, he indicated no desire to rush into the contentious issue.
"If we're losing half a million jobs a month, then there are no jobs to
unionize, so my focus first is on those key economic priority items I
just mentioned," he said. "Let's see what the legislative docket looks
Is that a "no"?
The real question for progressives to ask is why this is happening (in the interests of fairness, I should add that libertarians need to ask themselves similar questions about the Bush years). It is too soon for them to vilify Obama, so you'll either hear mutterings about him not being bold enough or just not hear much at all. The deeper reality is that Obama understands that this country was set up to be governed from the center and he'd rather start there than move there after two years of failed attempts to do something else. Don't be taken in by those funny maps they show about how the Democratic legislators are further left than before; the more power you have, the harder it is not to govern from the center.
The bottom line: If I'm happy so far, a lot of you out there have to be unhappy.
2. Peter Leeson’s syllabus.
3. Adolf Hitler taken into state custody — in New Jersey.
4. Super Contango.
5. Summary of the stimulus bill, via Matt Yglesias.
From Terry Fitzgerald at the Minneapolis Fed.
You are correct that the "mildest, median, and harshest" recession lines do
not represent single recessions. Please allow me to try to justify our
procedure. We spent considerable time weighing alternative approaches.
In drawing our timeline "length of recessions" graphs, we wanted to
illustrate where the current recession lies relative to past recessions at
each month of the recession. So for each month (or quarter), the lines
would tell you what had been the largest, median, and smallest decline in
any recession to that point.
The median line would indicate that one-half of the past recessions had
experienced larger declines, and one-half had experienced smaller declines
to that point. Similarly, no recession had a larger decline to date than
the "harshest" line. (And similarly for the mildest line.)
One feature of this approach is that the mildest, median, and harshest lines do not shift over time. So we can update just the "current" line in our graphs without all the lines shifting.
…I knew that insightful readers might wonder about this point, and I hoped that the note would at least explain what we did.
We are not trying to do anything deceptive or misleading with these charts.
Our aim is only to provide some empirical context to the current recession.
Here is the closing part of his summary:
One way to understand Keynes's General Theory is that Say's Law is
false in theory but that we can build the running code for limited,
strategic interventions that will make Say's Law roughly true in
practice. The modern American liberal economist's view of
libertarianism is much the same: libertarianism is false in theory, but
it is very much worth figuring out a set of limited, strategic
interventions that will make the libertarian promises roughly true in
Here is much more.
There's a lot of shadow boxing in this chapter. Keynes is well aware that he just made a radical move in treating savings as a pure residual (see my discussion of chapter six). Now he is looking to cover his tracks, make it sound reasonable, and show that other people don't really have a better approach.
Section I recaps. When Keynes writes "It would certainly be very inconvenient and misleading not to mean this" you should be just a bit astonished. He knew exactly what he was trying to cram in here and I suspect Keynes himself was smirking when he wrote that line.
Section II covers Hawtrey, an economist hardly discussed these days. (But wait, the issue pops up here, today! And here! Fama I think is wrong but read his 1980 "Banking in the Theory of Finance," Journal of Monetary Economics, for his underlying model)
Section III says that there exists a contorted interpretation of Keynes's earlier Treatise on Money which is consistent with the GT.
Sections IV and V whack the Austrians (again), drawing heavily on Piero Sraffa's 1932 "Dr. Hayek on Money and Capital." Keynes's basic point is that inflation can push around the redistribution of wealth, and expenditure flows, but that the new allocation of resources will be self-sustaining rather than self-reversing. He was basically right, unless you are willing to adopt some ancillary doctrine of market failure when specifying how adjustment processes occur.
The first paragraph of Section V is interesting but I don't think it is a correct account of why the Austrians differ from Keynes on this point. The Austrians had confusing terminology and here I think Keynes is taking them too literally.
The last two paragraphs of this chapter are a nice statement of what macroeconomics is all about.
Psychologically, Keynes feels he has neutralized the alternative approaches to savings and investment, and so he will proceed with the approach which we now call Keynesian. This chapter is Keynes trying to reassure himself, and reassure the reader. It's Keynes, the conscious revolutionary, trying to sound conservative.